Chapter Six The Economics of Education Crisis and Reform Chapter Outline Learning Objectives The Crisis in K-12 After completing this chapter K-12 as a Purely Private you will be able to: Market 1. Explain the shortcomings Potential Shortcomings of a of a purely private system Purely Private Market for K-12 _for K-12 schooling. Positive Externalities 2. Discuss the various reform in Consumption proposals and their degree Lost Social and Cultural of success for our primarily Coltesion through public K-12 system. Segregation What of Equal Opportunity? Proposals for Reform in the Current K-12 System School Choice and Vouchers Class-Size Reductions and Other School Resource Issues © McGraw-Hill Education Reform Proposals: A Postscript Summary THE BENEFITS OF HIGHER EDUCATION Individuals with higher levels of education eain more and are more likely than others to be employed. * Median earnings of bachelor’s degree recipients with no advanced degree working full time in 2011 were $56,500, $21,100 more than median earnings of high school graduates, Individuals with some college but no degree earned 14 percent more than high school gradua‘es working full time. Their median after-tax earnings were 13 percent higher. 135136 Chapter6 The Economics of Education * Compared to a high school graduate, the median four-year college graduate who enrolls at age 18 and graduates in four years can expect to eam enough by age 36 to compensate for being out of the labor force for four years, as well a for borrowing the full amount required to pay tuition and fees without any grant assistance. * Although 16 percent of male high school graduates earned as much as or more than the median earnings of male four-year college graduates in 2011 ($66,200), 84 percent earned less. * As workers age, earnings rise more rapidly for those with higher levels of edu- cation, For example, the gap between the earnings of full-time workers whose highest degree is a bachelor’s degree and those of high school graduates grows from 54 percent ($15,200) for 25- to 29-year-olds to 86 percent ($32,000) for 45- to 49-year-olds. © The 2012 unemployment rate for four-year college graduates ages 25 to 34 was 7.1 percentage points telow that for high school graduates. The unemployment rates for those with associate degrees and with some college but no degree were 4.0 and 1.6 percentage points below that for high school graduates, respectively, The financial return associated with college credentials and the gaps in earnings by education level have increased over time. * Between 2008 and 2011, the gap between the median earnings of high school graduates ages 25 to 34 and those in the same age range with a bachelor's degree or higher declined from 74 to 69 percent for men and from 79 to 70 percent for women, but the long-term trend is upward. * The difference between median earnings for women ages 25 to 34 working full time year-round with a bachelor’s degree or higher and those in the same age range with high schoo! diplomas rose from 43 percent in 1971 to 56 percent in 1991 and to 70 percent in 2011, The earnings premium for men rose from 25 percent in 1971 to 56 percent in 1991 and to 75 percent in 2011 Source: Excerpt from Sandy Baum, Jennifer Ma, Kathleen Payea, "Education Pays 2013." Available at wnwtrends.collegeboard.ore. The importance of effective primary and secondary education (kindergarten through 12th grade, or simply K-12) cannot be overstated, either from the perspective of students and their families or from that of the overall economy. From the individual's perspective, gone, or it least nearly gone, are the days when one could eke out even a modest living though the effort of muscle alone, Even the most basic jobs in today’s informationhungry world require workers to be able to read, write, and do simple arithmetc—and most jobs require a great deal more. The young adult entering the job maiket today, lacking at least a solid K-12 education, will most likely live life in or vary close to poverty. Stated positively, as noted in the opening vignette, college greduates can expect to earn enormously‘The Crisis in K-12 137 more over their working lifetimes than someone who goes no further than high school. This outcome is not a criticism of our market-oriented economy: As dis- cussed in Chapter 3, in a competitive market economy, workers tend to be paid based on the value that their work creates for their employer, in terms of added revenues. That is, the greater the revenue that a worker brings to the firm, the more the worker is paid. And this clearly shows the importance of a good system of K-12 education to the economy as a whole: The better educated and trained and, thus, the more productive the workforce, the more efficient will be individual firms and, taken together, the faster will the overall economy grow. As you recall from Chapter 1, a primary way in which an economy's production possibilities curve can be shifted outward (reducing the effects of scarcity in society) is through improving the quality of the economy’s productive resources, the most important of which is its workers. ‘The United States has a long and, by all accounts, generally successful history with broad-based basic education. Yet, in recent years, many have come to ques- tion the effectiveness of K 12 cducation as it is now delivered. Although some of the problems plaguing the current K-12 system are social or political in nature, many have very significant economic components. Most important are questions such as: How much K-12 education should be provided? Who should pay for it? What institutional structure should be employed to provide it? We will concern ourselves with these questions in this chapter. We will not even arrive at arguably defensible answers, however, until we have a clear grasp of what is meant by the “crisis in K-12." THE CRISIS IN K-12 Throughout much of the twentieth century, the system of K-12 education in the United States was held in very high public esteem. This started to change in the 1960s and 1970s.s we began to witness the relatively low status of American stu- dents in international assessments of educational outcomes, declining scores on college entrance exams, and an increasing sense that our K-12 graduates lacked the educational foundation, skills, and training needed to succeed in the work- place. Perhaps most troubling is the accumulating evidence that high school grad- uates in the United States are being systematically outperformed internationally in tho all-impos ra and math training The plight of American eighth graders, relative to their international peers, is:presented in Table 6.1. The data in Table 6.1 are taken from the Trexds in International Mathematics and Science Study (TIMSS), which was completed in 2011. To put U.S. 8th grad- ers to a fair test, the countries included are 10 of the wealthiest countries on earth. The data’s conclusion is quite clear, the education system in the United States does a basically mediocre job at preparing our students for the workforce and life. At least when compared to other wealthy countries. As you see, taken asa group, 8th graders in the United States donot fare particularly well in either math or science. ant areas of 6138 Chapter 6 The Economics of Education TABLE 6.1 American Bighth Graders versus the World, 2011 Source of data Tendsin Inernational Mathematics and Science Study (TIM), 2011, aia at http// go" Country Combined Math Science Republic of Korea 4,173 613 560 Japan 1,128 570 558 Finland 1,066 514 552 Slovenia 1,048 505 543 Italy 1,042 507 535 England/Great Britain 4,040 507 533 United States 1,034 509 525 Israel 1,032 516 516 Hungary 1,027 505 522 Australia 1,024 505 519 The data in Table 6.1 are quite persuasive, but the use of the TIMSS data to make international comparisons is not without shortcomings. Notable among, these are differences between countries in such key factors as curriculum, teacher prepara- tion, and the length of both school days and school years. As an example of the difficulty involved with such international comparisons, consider differences in the average length of the schol year. Students in the United States average about 180 days per year in school. By contrast, the school year is 192 days in England, 195 days in Canada, 208 days in Russia, 240 days in Germany, and 243 days in Japan. Clearly, were it possible to fully correct for this and other shortcomings, international comparisons of student achievement might show students in the United States faring a bit better. With this said, however, a cautious way of look- ing at Table 6.1 is to see a picture of U.S. educational achievement that one should not expect from the world’s rchest country. That is, shouldn’t the world’s richest country enjoy educational achievement that is clearly second to none? Achievement is, of course, only part of the story. The other side of the coin is a country’s commitment to education as expressed in its expenditures on educa~ tion, That is, the outcomes for achievement listed above might be understandable and even acceptable if it were shown that the United States is failing to keep up, internationally, on education expenditures. Table 6.2 shows education expendi- tures for the same countries considered above, both in absolute dollars per K-12 student and in terms of total expenditures on all K-12 students as a percentage of GDP in 2009, As Table 6.2 points out, in terms of expenditures per secondary school pupil, the United States comes in near the top of the intemational distribution. The 12,404 per pupil the United States spends on its secondary school stuclents is certainly great enough, comparatively speaking, to refute theidea that the achievement outcomes noted above are simply a by-product of genenilly poor educational funding, From a pure efficiency perspective, it would seem that we are not getting the "bang for the buck” that other listed countries’ K-12 systems are delivering, A similar story is told when one looks at the percent ol GDP devoted to K-12. Once again, the United States is near the top in funding. Taken together, Tables 6.1 and 6.2TABLE 6.2 International Comparisons of Education Expenditures Source of data: Digest of tp /acesed gow K-12 as a Purely Private Market 139 Expenditures Expenditures as a per Student (5) Percentage of GDP Country (2009) (2009) United States 12,404 4 England/Great Britain 10,685 42 Slovenia 9,875, 34 Australia 9,582 35 Italy 8,943 3.4 Japan 8,914 25 Finland ' B77 3.8 Republic of Korea 8,516 34 Israel 5,729 4 Hungary 4,225 49 suggest that the K-12 system in the United States is, for the observed achievement outcomes, simply a relatively expensive system. But why is this so? Kindergarten through 12th-grade education in the United States is delivered within a composite system of primarily public, but, increasingly important, private elementary and secondary schools. In 2003 nearly 90 percent of the 50 million school-aged children in the United States attended a public school funded through various taxes. The remaining students took advantage of a variety of private school offerings. The key distinguishing characteristic between the two types of schools is that a much greater direct financial burden is placed on the families of the private school students than exists in the normally zero-tuition public schools. Itis within this institutional context that we must find answers to our three key questions: How much educational service should be produced? Who should pay for it? What is the most appropriate institutional framework for offering that education? As a rst step in answering these, we will consider what a purely private market for K-12 would yield K-12 AS A PURELY PRIVATE MARKET Set aside, for the moment, all you know of K-12 as it exists now in the United States. That is, suppose that there were (1) no public echools, (2) no public monies spent on education, and (3) no public regulations requiring attendance in school for any child, regardless of age. How would that system look? Consider first the family side of the equation. In general terms, families would decide whether their children. would attend some form of school and for how many years. This decision would be based, like all other spending, decisions, on family income, prices of education and all other goods and services, and the value >laced on education by the family. What is it that determines the value that a family places on the education of one of its children? The primary benefits to both the child and the family from K-12 education come from the advantages one receives due first to the achievement of140 Chapter 6 The Economics of Education basic literacy and then to the knowledge and perspective that flow from build- ing on that base of literacy. Much of this can be measured through the additional earning power that accrues to the individual as education is extended. But we should not overlook the intangibles of education as well—better decision making, within families concerning health, hygiene, and financial matters; perhaps greater understanding in interpersonal relations; and the pure satisfaction that learning can bring, In each case, the value of an additional year of education most likely can be expected to decline as more education is consumed. That is, the early years of education, moving the child from illiteracy to literacy, are likely to yield a greater marginal benefit, in terms of both earning power and education’s intangibles, than later years, which simply serve to extend and refine the child’s knowledge. AS you probably realize, we just traced out, in words, the family’s demand for education. It is much like the family’s demand for housing, food, transportation, or anything else it consumes. All else held constant, the family’s demand for edu- cation reflects the marginal private benefit it receives as its children move through K-12. Initial years of education, yielding the greatest benefit, are worth most to the family. As the child moves through K-12, additional years, at the margin, become progressively less valuable. The family’s demand for K-12 is, consequently, accurately reflected in the demand curve D of Figure 6.1. As is typically the case for demand curves, D shows that, other things held constant, a falling price for schooling—lower tuition rates—will cause families to opt for additional years of education for their children, Finally, it should be noted that D is also labeled MPB, indicating that, as is typical, the demand for K-12 expressed in D accurately reflects the benefit to the child and family, or the marginal private benefit, of each ive year of education. FIGURE 6.1 K-12 as a Purely Private Market A purely private market for K-12 would function like most markets, leading toan equilibrium at which D = Sand, alternatively, where MPB = MPC. This occurs at point b with an enrollment level of E;, Tuition (S) 12,000 5,000 1 ' t 4 __ 1 Be Education (tudent-years)K-12 as a Purely Private Market 141 Now let's examine the supply side of a purely private market for K-12. With no public schools, no public money spent on K-12, and no regulations requiring attendance, would there be providers of K-12? Too often, we seem to think not. But of course this is simply a knee-jerk reaction to our having been raised in an environment in which government plays such a predominant role in K-12. Were there no government footprint at all in K-12, what would we have? A market. That is, as is true for any good or service, so long as consumers are willing to pay at least what it costs to produce an item, private, profit-seeking individuals and groups will step up to offer the item. Those that do so profitably and to the satisfaction of the consumers will thrive and expand, while those that do not will contract and either change to meet consumer demands profitably or cease to exist. In fact, this fairly accurately describes the landscape for basic education in the United States up through the mid-1800s. Perhaps one of the most important lessons of basic economics is at play here: If there is an effective demand for an item (a willingness to pay at least as much as the cost of production), there will be a supply. At this point, you are probably asking who will be involved in supplying K-12 and how quality can be ensured without government involvement. It is true that in the current environment government both provides K-12 and is charged with ensuring its quality through direct oversight and regulation. But if government were taken out of the mix, would there be no effective oversight of K-12 designed to ensure the quality of educational opportunities that our children deserve? Two points must be made here. First, to believe that without government overs schools there would be no effective quality control requires one to believe that markets, in general, have no mechanisms to ensure quality. This is, of course, not the case. What happens when a supplier offers a subpar good or service? Is gov- ernment required to correct the situation? Typically not: We simply take our busi- ness elsewhere, and the supplier either improves or goes out of business. It cannot be stressed strongly enough that private markets are not without mechanisms to ensure quality. In fact, they have the strongest, most effective, and quickest quality control mechanism possible: the ability of consumers to simply take their business elsewhere. Equally important, however, it should be noted that the existing, qual- ity control mechanism of direct government control is apparently not working effectively—recall the data of Tables 6.1 and 6.2. Were this not true, you would not’ be reading this chapter. Before considering the marke graphically however, we are going, to make four simplifying assumptions: 1, We assume that the market is competitively structured. 2. We assume that there are no externalities in producing K-12; thus, the supply curve is both the marginal private and merginal social cost of providing the educati 3. For simplicity, we assume that the cost of sroviding additional years of edu- cation is constant, yielding a supply curve that is horizontal at this constant142 Chapter 6 The Economics of Education cost, say, $5,000 per student-year. This $5,000 the students’ families must pay for each year of s also the price or tuition that hooling. 4. We have to take into account that once all children complete the K-12 pro- gram, there is no further demand for the service. We identify this as occurring when enrollments reach the £* level. en these assumptions, we have the market for K-12 in Figure 6.1, as it would appear without any government participation. What does the demand curve of Figure 6.1 indicate? It indicates the value that the family, in terms of both the tangible benefit of increased earning power and the less-tangible benefits of bet- ter family decision making and lifestyle issues, places on each year of K-12 for its children. As drawn, the demand curve indicates a positive marginal private ben- t for the 12th year of education, even for the very last potential student who fin- ishes 12th grade. The fact that the MPB is positive at the E* level, which is reached when all children complete K-12, reflects the belief that, if nothing else, finishing a 12th year of schooling allows the individual access to jobs requiring a high school diploma and is thus of some positive value. There are likely some intangibles associated with this very last possible year of K-12 as well. Consider the education decision-making process that would exist within a particular family. For example, suppose we are talking about the very first child to receive the first year of training within a given family. Why does her family choose to purchase this year for its daughter? The answer is clear: By doing so, the family’s well-being is increased. To see this, recall that the demand curve of Figure 6.1 is also the marginal private benefit curve. It shows the maximum price that consumers are willing to pay for each unit of a good or service and, as such, indicates the value or benefit consumers expect from consuming the item. In this case, as is captured at point a, the family is willing to pay $12,000 for the first year’s education. Consequently, we say the benefit of the first year’s schooling to the family is expected to be $12,000. While the benefit to the family is $12,000, this first year’s training can be purchased for the constant tuition rate of $5,000. Should it be purchased? If the family’s goal is to use its resources in the way that increases family well-being as much as is possible, it certainly should. By consuming this year of education, the family has essentially taken $5,000 and turned it into $12,000 of value. Not a bad deal at all. And the family’s good fortune does not translate into bad fortune for the private schools. Had the suppliers been losing money, that is, had the suppliers not been able to cover production costs at a price of $5,000, they simply would not have been willing to enter into the deal. Remember, a voluntary exchange between two parties happens only, if neither is made worse off by the exchange. Just as this first stucent-year is both profitibly produced (from the standpoint of the schools) and beneficially consumed (rom the standpoint of the student and family), all years out to an enrollment of Fy will be produced and exchanged, giving an equilibrium at point b. For each stident-year from 0 to E;, the benefit to the families, and thus their willingness to pay, exceeds the market price and consequently will be produced and consumed, Equally, however, rational familiK-12. as a Purely Private Market 143 would not pay for student-years beyond £). Why not? For each year beyond enrollment level £}, the benefit of an additional year of schooling is not worth the tuition that the family must pay to consume it, and so it is rejected, as would any other expenditure that failed (o yield benefits greater than costs. A family would no more pay $5,000 for a year's schooling that delivers less than $5,000 in benefits than it would if the item wasn’t schooling but, rather, a high-end computer, a trip to Fiji, or anything else that $5,000 could buy. How responsive would we expect this market to be? What if, for example, the overall demand for K-12 increased as reflected in the shift from D to D, in Figure 6.2? This might come about due to either an increase in the monetary or less-tangible side of the benefit structure or, perhaps, increases in family income. Regardless, it suggests that families want relatively more of the economy’s scarce resources drawn into the K-12 market. How will the market react? Resources wil be drawn into K-12, and production and consumption will increase to the new equilibrium at point ¢, which shows an enrollment level of E. When the econo- my’s families want more K-12, they get it, Of course, should they want less, they would get less, with overall demand and the resulting enrollment falling. And, most important, this happens without any mention whatsoever of government. It seems clear that a purely private K-12 market would be responsive to changes in family desires, but can we expect the market to be as responsive to changes coming from the production side of K-12? Suppose first that the origi- nal demand D reflects the demand for K-12 yielding an equilibrium at point b. Further suppose, for example, new learning technologies are developed which significantly lower the cost of providing K-12, perhaps to $4,000 per student-year. FIGURE 6.2 How Responsive Might a Purely Private Market for K-12 Be? A purely private market for K-12 can be expected to be responsive to changes arising from both the demand and supply sides of the market, Should clemand rise (fall), enrollments will rise (fall). At the same time, should the cost of production fall (rise), enrollments will rise (fall). Tuition ($) 5,000 4,000 o BBE Education (stident-years)144 Chapter 6 The Economics of Education Graphically, we would find the cost curve $ in Figure 6.2 shifting to this new level 5), The outcome would be more output of educational services, that is, more school years consumed, since the equilibrium is now at point b'—interestingly, at this equilibrium, we have the full enrollment level, E*. In other words, we can expect that a competitive, purely private market for K-12 would serve the fune- tion all properly structured market (0 allocate resources in accordance with the desires of the consuming public. Schools that can both keep costs down and exceed the expectations of families will survive and even thrive. As with all markets, however, those that do not meet the family’s expectations or do not do so in a cost-effective manner simply lose revenues as they lose students to schools that are performing better POTENTIAL SHORTCOMINGS OF A PURELY PRIVATE MARKET FOR K-12 externality in consumption An inerease in the satisfaction of one person caused by the consumption of a good or service by another person; education, especially K-12, is said to create such externalities. Numerous potential shortcomings exist for the hypothetical purely private market model outlined previously. Some can be easily corrected within the confines of the market, and others cannot. In addressing these shortcomings, we find our- selves in a better position to evaluate reforms being proposed and implemented within the existing K-12 system, Positive Externalities in Consumption Perhaps the most obvious potential shortcoming of the purely private K-12 market as presented concerns an assumption made in that presentation. Spe- cifically, we assumed that the entire benefit of schooling accrues to the student and his or her family. This is the case for most private goods or services, such as hamburgers or home furnishings. But, as was discussed in Chapter 4, in some cases part of the overall benelit of a good or service spills over to third parties who were not atall part of the original exchange. This spillover to others is called a positive externality in consumption, And, since people other than the direct consumer of the item find their well-being enhanced by the direct consumer's use of it, education is said to be a semiprivate good. An example of a semiprivate good is an inoculation for a particular illness, such as measles. When my chil is inoculated, she receives the primary benefit of the medicine in that she will not contract the disease. But she is not the only one to benefit from the injection. Specifically, all the children with whom she comes into contact will also receive some benefit in that there is one fewer child from whom they can contract the disease. This spillover of benefits, or positive externality in consumption, creates a divergence between the marginal private and marginal social benefit of the inoculation, with the MSB being greater than MPB by the value of the external ity. Since the externality causes the private market to undervalue inoculations by not taking into account the value of the spillover, the market will underproduce inoculations. Are there similar spillover benefits or postive externalities in consumption from education, in general, and from K-12, in particular? Those who believePotential Shortcomings of a Purely Private Market for K-12 145 there are positive externalities argue that benefits accrue to society as a whole, over and above the benefits of education to the family and the student. They gest a whole array of possible positive externalities suich as more rapid eco- nomic growth, better functioning democratic processes, improved public safety and hygiene, and greater charitable giving as the average years of education increases in society. Less obvious but equally important, some believe that a better-educated society will lead to improved economic decision making in gen- eral, which, in turn, leads to more efficiently operating markets. Moreover, some benefits typically thought to accrue solely to the student and his or her family may carry with them further positive externalities to society as a whole. For example, proponents of this view point out that an increase in the average level of schooling in society might lead to better nutritional and health care choices, which benefit both the individual and, by extension, society as a whole by ob- viating the need for extremely expensive health services. The same argument would hold for the positive relation between the years of parents’ education and the years-choice madle for the family’s children or the negative relation between years of education and the likelihood of an individual choosing to participate in criminal activities. Regardless of the source, it does seem clear that there is at least the potential for a significant spillover of benefits from K-12 education to society in general. Whereas the potential existence of such positive externalities is clear, the size of the spillovers is rather muddy. There is no consensus as to the size of any such positive externalities arising from K-12, at least once even moderate levels of enrollment have been reached. That is, opponents of the externalities argument suggest that although society probably does benefit in the ways described when all children move through the first few years of K-12, by the time all children reach the later years of schooling, no benefits accrue to society other than the direct benefit to the student and family. Each side of this argument seems unpersuaded by the other, but new research may yield a more accurate estimate of any existing positive externalities. One issue on which all agree, however, is the notion that the absolute size of the positive externalities coming from one’s moving through the K-12 system declines with each passing year of education. The greatest value of the positive externalities accruing to society from a child moving through the K-12 system is likely to occur in the earlier years of K-12, as the student moves from illiteracy to literacy. Figure 6.3 reproduces the original demand D and original supply curve S from Figure 6.1. Again, the supply curve is abeled as the marginal private and marginal social cost curve while the demand is labeled as the marginal private benefit curve. Above the MPB curve are threenew curves, MSBy, MSB,, and MSB). For now, ignore all but the middle curve, VSBy. This curve shows the value to society of the provision and consumption of the various school-years of education. You will recall from Chapter 4 that MSB, in the case of a positive externality in consumption, is the sum of the MPB and the positive externality arising from consuming the service: MSB = MPB + Positive externality146 Chapter6 The Economics of Education FIGURE 6.3 Positive Externalities and a Purely Private Market for K-12 Positive externalities in consumption drive a wedge between MPB and MSB. If this difference between MPB and -MSB is great enough, as in the case of MSBy and MSB,, the market will not produce the socially optimal level of K-12 on its own. Tuition (S) MsB, ° 6 & © Education (student-years) MSB is a composite of the benefits accruing both to the families of students and, over and above that, to society in general due to the students” education. It differs from MPB by the value of any externality in consumption that might exist. If no externality is present, MSB + MPB. Here we assume there are positive externali- ties in consumption. As such, the vertical distance between the MPB and MSBy in Figure 6.3 is our best guess of the value of the externality. Notice that MSB declines more rapidly than does MP8 since the marginal value of the spillover is expected to decline as years of education consumed increases. What's the importance of all thie? This framework allows we. both, te offer a valid criticism of purely private market provision of K-12 education and toanswer our first key question of how much K-12 should be provided Ask yourself how much of this service should be provided. By now you should readily be able to answer this question by stating that the provision of K-12 should be extended to the point where social well-being is maximized, which occurs when MSB = MSC. To see this general principle, consider again the family decision- making process concerning the years of edication their children should receive. We said that the student's family would happily pay for the first year of schooling since it yielded $12,000 in direct benefits tc the family and cost only $5,000—anPotential Shortcomings of a Purely Private Market for K-12 147 increase of $7,000 in family well-being. Since the benefit to the family was greater than the cost, the family’s interest was served by taking, this year of education. The same is true from society’s perspective—MSB of that first year of schooling far outpaces MSC—so that both family and social well-being are enhanced by the provision and consumption of this first year of education. And this same logic of expanding production and consumption so long as MSB = MSC would lead s¢ ety to find its well-being at a maximum once E> student-years are provided since, at point a, MSB = MSC. Obviously, this enrollment level is somewhat greater than the E; level that the purely private market would lead to, at point b, The criticism of this market outcome is that since the market is incapable of taking into account the spillover of benefits from K-12 to society as a whole, it will necessarily under- value K-12, leading to a level of enrollment too low to maximize social well-being, The significance of this criticism depends on the s med for the social spillover. Figure 6.3 depicts three alternatives. The one we have addressed, MSBy, shows an intermediate value of the externality leading to a social well-being— maxim ize as ing level of enrollment of Ey. In this case, the market gets it wrong, in that it underproduces K-12. By the same token, should the spillover be greater as identified along MSBy, 100 percent enrollment through 12th grade, at enrollment level E*, would be the proper outcome for society. That is, MSB [H11005] MSC at point c, On the other hand, should the spillover be such that MSB, is appropriate, the market outcome will maximize the well-being of the family as well as social well-being, since the externality is assumed to have fully evaporated at the market-determined enrollment level E,, as is identified at point &. The importance of this criticism, consequently, hinges on one’s beliefs concerning the value of any existing externality to society from K-12 education. To the extent that it is relatively large, the private market, operating on its own, will produce too little K-12, This does not, however, indicate that the private market cannot be used in the production of K-12, or that government provision is required. Rather, a more appropriate conclusion to draw is that when significant social spillovers are thought to exist, a private education market will fail to produce the socially optimal level of the educational service. Government intervention then may improve the functioning of the market, As is always the case, however, before recommending any government action, we must make certain that the action will both do the job and do so in a cost-effective manner. To consider the role government might play in correcting an existing positive externality within a purely private K-12 market, suppose that there is an initial equilibrium at point b causing the private market to produce, on its own, an enrollment level of E, student-years, as in Figure 64. At this equilibrium, tuition and the cost of production are $5,000 per year. Further suppose that positive exter- nalities arising from education exist, yielding marginal social benefits of MSB. In this case, the optimal level of enrollment, that is, the level of enrollment at which MSB = MSC, is E;. This is identified as pointa. What might government do to encourage production out to the socially optimal level? Consider the student-year E>, It is in the social interest to have this year produced and consumed since i carries with it MSB that is just equal to MSC, at $5,000. Yet the market will not148 Chapter 6 The Economics of Education FIGURE 6.4 Using Subsidies to Correct the Externalities Problem Subsidies equal to the value of the spillover from education (the difference between MPB and MSB) will cause the private market to produce the socially optimal level of education. Here, a subsidy of $1,000 is required to bri about the optimal enrollment level, E tuition subsidy A payment made to families or schools by government to encourage additional education; when emalities ate Latuition subsidy exqual in value fo the gap betiveen marginal private benefits and marginal social benefits should result in the optimal level of enrollment. nents Tuition ($) MsB 5,000 4,000 ° Ro F Education (student-years) cause it to be produced because the value to the student's family of this year of schooling is only $4,000, as given by MPB. The problem here is simply that the family’s valuation of the year of schooling is $1,000 lower than the market cost (MSC) of providing it. Thus, the student and her family would be unwilling to pay the $5,000 price necessary to cause that unit of education to be produced. Put this way, the $1,000 difference between what the year of education is worth to the student's family and what that same year is worth to society clearly is the problem. If the producers were offered only the family’s desired price of $4,000, it would be turned down. But whatif, when the student offered $4,0(0, the government chipped in another $1,000 in the form of a {uition subsidy? Nov the private schools will produce the E, unit since their cost is covered, and the student will take the additional year because the price she has to pay is exactly equal to the benefit she receives from the year in school. This same logic applies to each unit of education in which a significant positive externality results from consumption and this situation can typically be corrected through government subsidies. Note, the government need not actually prodice education; that is, public schools as we now know them are not necessary to correct this market shortcoming. Rather, private provision canPotential Shortcomings of a Purely Private Market for K-12 149 still exist; it simply will require some assistance, such as through a government tuition subsidy, to reach the socially optimal level of production of K-12. This outcome gives insight into our third key question concerning, the optimal institu- tional structure to use in producing K-12. Specifically, while government produc- tion may be used to advantage, such extensive government involvement is not economically required. And, remember, when government intervention is called for within a market economy, that intervention is likely to be most beneficial when kept to the minimum necessary to achieve the desired goal. But is this approach “fair” to the taxpayers who are going to inevitably have to foot the bill for the subsidy? Once this question is asked, we find the answer to our second key question concerning who should pay for K-12. Specifically, con- sider again the situation described above at point a: The student’s family pays $4,000 for the year’s education; government pays $1,000, and, in return, the pro- ducer offers the year’s education. How did we arrive at the division of the $5,000 that was required to induce the producer to offer the additional year? We argued that the student's family, being rational, would always be willing to pay up to the benefit they expect from the year’s education, in this case, the MPB of $4,000. At this level of enrollment, the MSB is $5,000—the $4,000 in private benefits to the student’s family and a spillover of benefits of $1,000 to society. When the alloca- tion of the bill for the year’s schooling is $4,000 to the student and $1,000 to society, both are simply being asked to pay for the benefit that the year’s education yields to them. It is true that, for that student-year, taxpayers are being asked to cover $1,000 of the cost to provide the year's education to the student. However, this is simply the general public's “fair payment” for the benefits it receives from this year of education, over and above the benefits accruing to the student and her family. In this way, both the family and society are paying for the benefits they uniquely receive. The same would be true, of course, for any year of education that had signi cant positive externalities in consumption associated with it. In such cases, the socially optimal level of education can be achieved through government subsidi in support of education equal in value to the external benefits of the education that are received by society. The answer to the question of who should pay, then, depends on the value of the externality in consumption arising from K-12. When it is significant, a strong, case can be made for significant public funding. If the externality is small, the student and his or her family should be expected to foot most of the bill. As with any good or service, the conclusion with respect to who should pay for K-12 is that all who receive benefits should pay an amount equal to the value of the benefits they receive at the socially optimal output level Lost Social and Cultural Cohesion through Segregation One of the great strengths of the United Stites is the diversity of its people. A quick glance around the world shows clearly that such diversity is not always a country’s strength. History is replete with examples of a country’s people break- ing apart along racial, ethnic, cultural, or religious fault lines so severely as to pull the country apart. To avoid this fate, the people of a country must share a common